Retail banking in India started decades ago, but why are banks still making losses?

I don’t think banks are making losses in retail lending. Home loans and auto loans are very profitable, although I am not very sure if two-wheeler loans are holding up good. There are some problems with unsecured lending. What banks are now trying to do is to get out of the unsecured lending business, the losses are mounting up there. So it is understandable that banks are exercising a greater degree of selectivity while extending unsecured loans.

Aggressive retail customer acquisition has resulted in rising NPAs in the last three years. What will be the customer acquisition strategy of banks in the coming days?

It all boils down to the question of recovery. The margin is very high in retail lending, especially unsecured lending, so that banks can withstand the high level of NPAs (non-performing assets). Lending rates often go up to as high as 24%. But still, in home loans, the NPA levels are less than 1%. There is a considerable amount of restraint in the recovery process. RBI has restrained the recovery agents and rightly so. Banks were heavily dependent on recovery agents for their unsecured loans. So there is not a great deal of appetite for unsecured loans, banks are going very selectively and they will be very choosy in the future also. Only downside is that people will go back to moneylenders for their unsecured loan needs as banks will be out of it.

Few banks have closed their retail lending or sold off their portfolios. Do you see some banks walking out completely from the retail segment and specialized participants entering the business?

That is true for every other aspect of banking. It is not practical to have a bank specializing in everything. Each bank should develop its core strength and that is what the future holds. I see no reason why a bank should do everything. Specialization ought to take place. The problem today is that every bank wants to be a clone of everyone else. That way the banking system will never grow. They need to develop a niche market of their own. Hopefully, with the new bank licences, the coming number of players will be larger and banks will want to specialize in this competitive market. In such a large market like India, it is very easy to specialize in niche areas and thrive.

Won’t there be competition in those niche areas also? If it is profitable, won’t other players come and crowd the place?

Sure there will. Competition is healthy and necessary, but the requirement will be different so the niche players will have to focus on that aspect and specialize. If they want to be successful, there won’t be any scope for spreading themselves thin. For example, in rural banking, you have to have a very high dose of technology and exclusive focus on the rural market. You may see a lot of NBFCs (non-banking financial companies) with localized knowledge come into the space and do what other large banks failed to do.

The Indian economy is the second fastest growing major economy. The middle class has disposable income, rural areas have vast potential. Why it is that banks have not been able to tap into this space successfully? Do you think financial inclusion will bring in a change?

The Indian banking system has never been designed to serve in rural areas. They are essentially urban-focused banks. The banking model is not equipped to deal with highly customized rural needs. The present urban banking model cannot work in rural areas.

This financial inclusion experiment of using the urban banking system in rural areas flopped in the 1960s. I don’t understand why the experiment is still getting continued now. It is a recipe for disaster. Rural areas have special characteristics, local nature and local needs. The rural banking model should be block-focused—a large number of branches should be covering a block and the products should be as per the specific needs of the customers.

In urban banks the products are all bank-centric, whereas you need customer-centric, tailor-made products in rural areas. For that you need to hire local people, need to understand local needs. Now, products of a bank are complex to the customer. Let the complexity problem shift to the bank instead of the customer.

You need thousands of such local banks to cover the mass. The future is the NBFC model. Let them securitize the receipts of the rural areas and sell it to banks, and let the financial inclusion be achieved that way instead of telling banks to go and open branches in rural areas without having an understanding of the local needs there.

Yes, but they are catering to their own niche target and have their limitations. What you need is banks with high technology and a few number of simple products that can again be customized. Technology will have to play a big role there and I expect a lot of other players and private equity parties also tapping into the space.

Do you see technology replacing the bricks and mortar branch model in the future?

Absolutely. I have no reason to believe otherwise. That will bring in huge stability also. That way, the banking system will expand exponentially.